By Diane Bartz and Poornima Gupta
WASHINGTON/SAN FRANCISCO (Reuters) - The U.S. government sued Apple Inc and five publishers, saying they conspired to fix the prices of electronic books, and reached a settlement with three of the publishers that could lead to cheaper e-books for consumers.
The Justice Department accused Apple of colluding with the five publishers as the Silicon Valley giant was launching its iPad in early 2010 and was seeking to break up Amazon.com's low-cost dominance in the digital book market.
Because of the agreement, e-book prices went up an average of $2 to $3 in a three-day period in early 2010, according to the Justice Department lawsuit filed in U.S. District Court for the Southern District of New York on Wednesday.
The settlement reached with three of the publishers will allow Amazon to resume discounting books, and will terminate the "most favored nation" contracts with Apple.
Amazon said in response to the settlement that it plans to lower prices on books associated with its Kindle e-reader.
The pact also requires the publishers to wait two years before entering into any "agency model" agreements that prevent retailers from offering discounts on electronic books.
The publishers who agreed to settle are News Corp's HarperCollins Publishers Inc, CBS Corp's Simon & Schuster Inc and Lagardere SCA's Hachette Book Group.
Hachette and HarperCollins also settled with a group of U.S. states, agreeing to pay $51 million in restitution to consumers who bought e-books.
Publishers Macmillan, a unit of Verlagsgruppe Georg von Holtzbrinck GmbH, and Pearson Plc's Penguin Group, plan to fight the Justice Department charges, along with Apple.
James McQuivey, a media analyst at Forrester Research, said e-book prices were destined to come down, even without a Justice Department settlement, because publishers themselves have been experimenting with discounting to stimulate sales.
"It essentially will accelerate the reversion back to the sub-$10 prices that Amazon had already established as the standard," McQuivey said.
The e-book market has boomed in recent years. Sales grew from $78 million in sales in 2008 to $1.7 billion in 2011, according to Albert Greco, a book-industry expert at the business school of Fordham University.
A Pew Research Center survey released last week found that one in five American adults read an e-book in the last year.
SOME PUBLISHERS DEFIANT
U.S. Attorney General Eric Holder told a news conference in Washington that executives at the highest levels of Apple and the publishers worked together to eliminate competition among sellers of e-books.
During December 2009 and January 2010, the publisher defendants' U.S. chief executives placed at least 56 phone calls to one another, the complaint alleges.
"As a result of this alleged conspiracy, we believe that consumers paid millions of dollars more for some of the most popular titles," Holder said.
Apple had no comment about the federal lawsuit. A person familiar with the matter said Apple has not been part of the settlement negotiations.
In a recent court filing, in a private class action suit on the same issue, Apple said it had not colluded with the publishers but "individually negotiated separate vertical agreements with each of the publishers."
Macmillan Chief Executive John Sargent released a defiant letter to the book industry on Wednesday saying the publisher did not collude.
Sargent said Macmillan had been in discussions with the Justice Department for months, but the settlement terms were "too onerous".
"After careful consideration, we came to the conclusion that the terms could have allowed Amazon to recover the monopoly position it had been building before our switch to the agency model," Sargent said.
Hachette said in a statement that it reluctantly agreed to join the federal and state settlements, but it "was not involved in a conspiracy to illegally fix the price of eBooks."
Penguin CEO John Makinson said his company did nothing wrong and was alone among the publishers in not holding any settlement discussions.
HarperCollins, which also settled, denied any wrongdoing. Simon & Schuster declined to comment.
The European Commission is also probing Apple and publishers in a similar antitrust probe. It said on Wednesday that it had received settlement proposals from Apple and four publishers - Simon & Schuster, Harper Collins, Hachette Livre and Macmillan's parent.
The U.S. government alleged that Apple and the publishers had a common interest in fighting Amazon's practice of selling e-books for as little as $9.99 as it was building market share and trying to drive sales of its Kindle reader.
Apple's late co-founder and technology legend Steve Jobs figures prominently in the Justice Department's lawsuit with many instances of his personal involvement in negotiations with publishing executives about deal terms.
"Throw in with Apple and see if we can all make a go of this to create a real mainstream e-books market at $12.99 and $14.99," Jobs wrote to one of the publishers, according to the Justice Department's complaint.
Apple successfully persuaded the publishers to adopt an "agency model" that allowed publishers to set the price of e-books and in turn, Apple would take a 30 percent cut, the government said. The Apple agreements with publishers effectively barred them from allowing rival retailers to sell the same books at lower prices.
The strategy upended the "wholesale model" in which retailers pay for the product and charge what they like.
The agency model of pricing is not itself illegal, but it is illegal for competitors to collude to set prices.
The Justice Department complaint charges that the publishers regularly communicated with each other about Amazon's e-book strategies and on ways to solve "the $9.99 problem".
Chief executives at rival publishing houses met regularly in private rooms at upscale Manhattan restaurants, the government alleged.
The complaint says the publishers took steps to conceal their communications with each other, including instructions to "double delete" email and other measures to erase a paper trail.
The government said the publishers then received assurances from both each other and Apple that they would move together to raise the retail prices of e-books.
Democratic Senator Richard Blumenthal, a former Connecticut attorney general, said the Justice Department's action was particularly important because it involved a new and growing consumer market.
"If it were not a new kind of product, people would say it's a kind of garden variety violation of law," he said. "The idea that this innovation can be stifled is particularly troubling."
The lawsuit was filed in the U.S. District Court for the Southern District of New York. It is No. 12-cv-2826.
(Reporting By Diane Bartz and Poornima Gupta, with additional reporting by Jennifer Saba, Grant McCool and Jeremy Pelofsky; Editing by John Wallace and Tim Dobbyn)